Quick Draw: Target or Staples?

The big-box stores have taken a beating during the recently ended quarter, most of them dragging their stocks down along with falling sales figures. CNBC Mad Money's Jim Cramer recently cited this period as one of the worst times for retail that he can remember. Let's put two big-box stores side by side for a quick comparison: Staples (NASDAQ: SPLS  ) and Target (NYSE: TGT  ) . Both took decent hits upon their earnings releases, with the former down as much as 15% over the course of just a few days. Though the two are not in identical businesses, they face many of the same headwinds and hold similar opportunities. Here's my quick pick between the two.

Downbeat earnings 
Target was able to provide the better of the two earnings reports, with an EPS at the top of management's guided range, but same-store sales that were up just 1.2%. The company missed top-line sales estimates and delivered weak guidance, prompting a sell-off that has the stock trading down roughly six points for the week. The company is expanding fast in Canada, having just met the halfway point for its 124-store goal, but it's costing more than expected. Management originally anticipated a cost of $0.45 per share for the year, related to the Canadian buildout, but that number has now risen to $0.82 per share -- frightening investors and analysts.

Staples had a worse report. The company saw net income shrink from $0.19 per share in the year-ago quarter to $0.16 per share in the just-ended second quarter. Top-line sales dropped 2%, while same-store sales fell about 3%. Looking ahead, the company sees full-year sales dropping in the low single digits, prompting a major stock sell-off.

Both companies had little, if anything, to celebrate in their earnings reports, but Staples took a far bigger beating. Looking beyond the dreadful headline numbers, though, there are some interesting points for both companies.

eStrength 
As Fool analyst Blake Bos mentioned recently, Staples has the number two e-commerce business, trailing only Amazon.com with $10 billion in Web sales. This is a tremendous margin of safety for the company, which over the past year has closed more than 100 brick-and-mortar stores. Low-margin products and high costs have kept profitability down, but free cash flow actually ticked up in the previous quarter.

Staples is leaning out its brick-and-mortar business, not completely -- but effectively. Web sales grew just 3%, in line with last year's gain, but it gives the company a tremendous advantage over its fellow home office big-box stores.

Target is, over the long-run, a successful retailer experiencing short-term drama. The macroeconomic situation is unfavorable, and the retail climate has hurt all players. Coupled with the expensive Canadian start-up costs, it makes the company look in worse shape than it actually is.

Overall, though, Staples is the more appealing pick here, based on valuation and its well-protected business. Analysts' concerns over whether Staples can continue to grow are largely unfounded -- sure, the physical locations are rather stagnant, but the Web business will continue to grow. At just 10 times forward earnings and 10.4 expected free cash flow, the company is more attractively priced for the value-conscious investor.

More from The Motley Fool 
The retail space is in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only those most forward-looking and capable companies will survive, and they'll handsomely reward those investors who understand the landscape. You can read about the 3 Companies Ready to Rule Retail in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.


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